IRS Withholding Tax on Shareholder Loans as Deemed Profit Distribution Under Article 6(4) CIRS – CAAD Case 205/2018-T

ARBITRAL DECISION

The arbitrators Dr. Alexandra Coelho Martins (presiding arbitrator), Prof. Dr. Clotilde Celorico Palma and Dr. Miguel Luís Cortês Pinto de Melo (panel arbitrators), appointed by the Ethics Council of the Administrative Arbitration Centre ("CAAD") to form this Arbitral Tribunal, constituted on 4 July 2018, agree as follows:

REPORT

A..., Lda., hereinafter referred to as the "Claimant", a legal entity identified under number ..., registered in the Commercial Registry Office of Lisbon under the same number, with headquarters at ..., number ..., ..., ...-... Lisbon, filed a request for constitution of a Collective Arbitral Tribunal and for an arbitral pronouncement, under articles 2, no. 1, paragraph a), 5, no. 3, paragraph a), 6, no. 2, paragraph a) and 10, no. 1, paragraph a) and no. 2, all of the Legal Framework for Arbitration in Tax Matters ("RJAT"), approved by Decree-Law no. 10/2011, of 20 January.

The Claimant presents a request for declaration of illegality and annulment of the assessment acts for withholdings at source of Personal Income Tax ("IRS") and compensatory interest relating to the years 2014 and 2015, in the total amount of € 309,342.43, issued following an inspection procedure. It also petitions the restitution of the amount paid, plus indemnificatory interest as referred to in articles 43 of the General Tax Law ("LGT") and 61 of the Code of Tax Procedure and Process ("CPPT").

The respondent is the Tax and Customs Authority ("AT").

As grounds for its claim, the Claimant alleges the following defects, of both formal and substantive order:

• Formal defect of lack of reasoning, by omission of the legal basis for tax collection from the Claimant, in its capacity as tax substitute, and not from the partners, substituted taxpayers and IRS subjects – cf. articles 77, nos. 1 and 2 of the LGT, 62, no. 3, paragraph i) of the Supplementary Regime for Tax and Customs Inspection Procedure ("RCPIT"), 125, no. 2 of the Administrative Procedure Code ("CPA") and 268, no. 3 of the CRP;

• Non-existence of the ancillary duty of tax substitution of the Claimant, since the income allegedly made available to its partners was done on the basis of loans and not as profit distribution, with no objective incidence rule existing. Even if the general anti-abuse rule had been invoked, taxation could only apply to the partners and not to the sphere of a third party, thus violating the constitutional principles of trust and legal certainty, inherent to the principle of democratic rule of law enshrined in article 2 of the Constitution ("CRP"), of proportionality (article 18 of the CRP), of contributory capacity (articles 13 and 104 of the CRP) and of justice;

• Error regarding legal grounds, since the AT when acknowledging the existence of loans concluded between the Claimant and its partners could not invoke the presumption provided for in article 6, no. 4 of the IRS Code, which depends on there being no "justification" for the recorded amounts, and it cannot be concluded that they do not exist merely because the loans did not meet legal requirements. Thus, said presumption is inapplicable and it is not even incumbent upon the Claimant to rebut it;

• Error regarding factual grounds, since the absence of proof of "financial outflows in favor of the partners" does not allow concluding for the non-existence of the loan contracts which are evidenced in the Claimant's accounting (movements in account #121 as counterparty of #26), nor does it contribute to this the fact that payment of interest or provision of personal or real guarantee is not foreseen and that the corresponding Stamp Tax has not been paid. Likewise, the existence of the loans is not prejudiced by the circumstance that their deliberation by the Claimant only occurred on 31 March 2014;

• By disregarding the existence of the loan contracts and proceeding to the requalification of income as profit distribution to the partners, the AT proceeded to the "concealed" application of the general anti-abuse clause, provided for in article 38, no. 2 of the LGT, and for that it should have followed the procedure provided for in article 63 of the CPPT, which did not occur in this case. In this manner, it violated the reasoning requirements provided for in article 63, no. 3 of the CPPT and the right to prior hearing concerning the application of the anti-abuse provision (nos. 4 to 6 of the same rule), in addition to the fact that it was not preceded by authorization from the highest officer of the services (no. 7);

• The existence of discrepancies between accounting and reality, regarding accounting records relating to the balances of account #121, prevent the presumption of veracity of article 75 of the LGT for that specific segment of the Claimant's accounting, such that the AT cannot rely on those accounting records to legitimize the taxation. Having regard to the principle of taxation based on actual income, the AT should have sought to reconstruct the actual situation, such that the correction suffers from error regarding factual grounds due to incorrect quantification of income;

• Given the non-occurrence of delay in withholdings at source, the corresponding assessments of compensatory interest are illegal, by violation of the provision of article 35 of the LGT.

The Claimant concludes by requesting declaration of illegality and consequent annulment of the tax assessment acts for withholdings at source (IRS) and compensatory interest relating to the taxation periods of 2014 and 2015, with the consequent restitution of the amount which it considers to have been improperly paid, of € 309,342.43, plus indemnificatory interest and other legal consequences. It attached 5 (five) documents.

The request for constitution of the Arbitral Tribunal was accepted by the President of CAAD and followed its normal procedure, namely with notification to the AT.

In accordance with articles 5, no. 3, paragraph a), 6, no. 2, paragraph a) and 11, no. 1, paragraph a), all of the RJAT, the Ethics Council of the Administrative Arbitration Centre ("CAAD") appointed as arbitrators of the Collective Arbitral Tribunal the signatories, who communicated acceptance of the appointment within the applicable deadline.

The parties, duly notified of that appointment, did not lodge any objection in accordance with articles 11, no. 1, paragraphs b) and c) and 8 of the RJAT and 6 and 7 of CAAD's Code of Ethics.

The Collective Arbitral Tribunal was constituted on 4 July 2018, as communicated by the President of the Ethics Council of CAAD.

The Respondent filed a reply and attached the administrative file ("PA").

According to the Respondent, the Claimant's thesis regarding lack of reasoning of the challenged acts has no merit, as the latter has a clear understanding of the tax acts in question and their reasoning. On the other hand, it considers that the Claimant points to defects wholly unrelated to the additional assessment, specifically those concerning the general anti-abuse clause which was not applied by the AT. The tax corrections were based on the legal provision of article 6, no. 4 of the IRS Code and consequent classification under article 5, no. 2, paragraph h) of that Code, and not on article 38, no. 2 of the LGT.

The Respondent further maintains that the income made available to the partners does not find support in the loan contracts, such that the Claimant was obliged to withhold tax at source, as a final amount, of the sums delivered to them, under articles 71, no. 1, paragraph c) and 98, no. 3 of the IRS Code, which did not happen. It notes that according to articles 20 and 34 of the LGT and 21 of the IRS Code, primary responsibility for withholding tax and its payment into the State coffers rests with the tax substitute, with the substituted party being only subsidiarily liable – cf. article 28, nos. 1 and 3 of the LGT.

It further maintains that the Claimant not only repeatedly admitted the non-conformity of its accounting records with reality, but also failed to provide the proof incumbent upon it under article 74 of the LGT, nor did it rebut the presumption inherent in article 6, no. 4 of the IRS Code, such that it is unavoidable to understand that the amounts distributed to both partners were done so as profit or advance on account of profit. Thus, the alleged illegality of the assessment of compensatory interest is also unfounded.

Finally, it understands that there is no error attributable to the services as set out in the normative hypothesis of article 43, no. 1 of the LGT and should, for that reason, consider the request for payment of indemnificatory interest to be unfounded. It concludes for the dismissal of the arbitral request, with the maintenance in the legal order of the tax acts and the absolution of the petition.

Considering it unnecessary, the Arbitral Tribunal dispensed with the meeting referred to in article 18 of the RJAT, under article 16, paragraph c) of the same enactment, since no exceptions were raised nor was additional evidence production requested.

Notified for allegations, Claimant and Respondent referred to the arguments contained in the request for arbitral pronouncement and the reply, respectively.

PRELIMINARY MATTERS

The Tribunal was duly constituted and is competent ratione materiae, given the composition of the object of the proceedings (cf. articles 2, no. 1, paragraph a) and 5 of the RJAT).

The request for arbitral pronouncement is timely, as presented within the deadline provided for in paragraph a), no. 1, of article 10 of the RJAT.

The parties have legal personality and capacity, have legitimacy and are duly represented (cf. articles 4 and 10, no. 2 of the RJAT and article 1 of Ordinance no. 112-A/2011, of 22 March).

The cumulation of claims is admissible, since it involves assessing the same factual circumstances and the same principles or rules of law, relating to the classification of income as profit or advance on account of profit, under the presumption provided for in article 6, no. 4 of the IRS Code, although relating to distinct fiscal years.

The proceedings do not suffer from nullities, no exceptions having been raised.

REASONING

MATTER OF FACT

With relevance for the decision, it is important to note the following facts which this Tribunal deems proven:

A. A..., Lda., the Claimant herein, is a limited liability company registered since 3 July 1996, whose object is the provision of medical and clinical care, carrying out specifically medical services of ophthalmological surgery, with CAE 86906 – Other activities of human health. It is classified under the VAT exemption regime and the general taxation regime for Corporate Income Tax ("IRC") – cf. Tax Inspection Report ("RIT"), attached with the request for arbitral pronouncement ("ppa") as document 3 and contained in the PA.

B. An external inspection action was carried out on the Claimant, under service orders nos. OI2017..., OI2017... and OI2017..., relating to the years 2013, 2014 and 2015, with partial scope of VAT, IRC and withholdings at source (IRS), to verify the nature of the permutative variations verified in the composition of the company's assets, namely in assets such as "Bank Deposits" and "Shareholders/Partners", "Other accounts receivable" – cf. RIT.

C. As a consequence of this inspection action, the Claimant was notified of the Draft Report, by letter dated 17 October 2017, sent by registered mail, which contained a proposal for correction of withholdings at source of IRS in the following amounts (cf. RIT):

• i) € 74,340.00, with reference to the year 2014; and
• ii) € 207,984.00, relating to the year 2015.

D. The taxable base of the aforementioned withholdings at source consists of the amounts of € 265,500.00 (2014) and € 742,800.00 (2015) made available by the Claimant to the partners – cf. RIT.

E. The Claimant exercised the right of hearing, following which the AT maintained the proposed corrections (paragraph C above), proceeding to notify, in December 2017, the final Tax Inspection Report, whose content is reproduced and from which the following reasoning with relevance for the matter under discussion in the present arbitral proceedings is extracted:

[The report contains detailed analysis of financial flows, accounting entries, bank reconciliation discrepancies, and loan documentation...]

F. Within the diligences carried out, it is important to underline that collaboration requests were made to the main client of the SP, J... LDA (NIF...), through notification under letters nos. ... of 15/05/2017 and ... of 12/07/2017, requesting copies of the payment methods and statements of amounts paid to the SP under analysis, relating to medical fees provided by Drs. F... and G... in the years 2014 to 2015. Having analyzed the responses obtained, we were able to confirm that the invoicing issued by the SP in these two years was always paid by this client through checks issued in the name of the physician Dr. F.... It is important to note that the confirmation sent to the client company of the SP, through notification, also served to confirm the correct classification of the SP for VAT purposes.

G. [Detailed accounting analysis...]

H. [Analysis of bank reconciliation and financial flows...]

I. Having analyzed the accounting records of financial flows and the bank statements of the company for the years under analysis, it was found that the majority of financial flows for the company's account are reflected in the B... bank institution, confirming the lack of correspondence between both, with the necessary bank reconciliation not having been performed by accounting. To attest to this fact, the following weaknesses found at this level are highlighted:

[Detailed analysis of account reconciliation issues, bank statement discrepancies, and accounting irregularities...]

J. Throughout the years under analysis, in the accounting of the SP, accounting entries are identified assuming loans from the company to the partners [detailed analysis of loan contracts and accounting entries from 2013, 2014, and 2015...]

K. [Analysis of subsequent accounting adjustments and corrections...]

L. It is further noted that the managing partner, in declarations made on 3 July 2017 (ANNEX 4), in accordance with the Statement of Declarations he signed on that date, justified that "The loans were made partially to justify the exit of revenues from the company that had previously been deposited in the partners' personal bank accounts". On the same date he made declarations, the SP was notified to present the documentary evidence of the financial flows underlying the alleged loans from the company to the partners. However, no documentary evidence was presented (see ANNEX 4, question 8 of the Statement of Declarations of 3 July 2017 and corresponding response of the managing partner).

M. [Analysis of 2015 partner account movements...]

N. [Analysis of loan contracts executed in December 2015...]

O. [Analysis of alleged partner loan repayments in 2015...]

Based on the documentary evidence collected, it is proposed to assess the documents supporting the loans from the company to the partners (loan contracts, loan receipts), analyzing the underlying accounting entries in partner current accounts and bank deposits, accompanying their consistency with the company's bank statements.

Analysis of Facts

[Detailed analysis of financial declarations, accounting policies, and financial flows...]

2) From the analysis of the values declared by the SP in the Financial Statements/Annual Returns, it results that:

• In years prior to 2013, it is verified that, in successive years and with a growing trend, final accumulated balances were always declared on the company's balance sheet in the "Bank deposits and cash" account, with no balance declared in the partners' loan account, in the "Other accounts receivable" or in "Shareholders/Partners" headings;

• In the 2013 Financial Statement, were declared in the company's balance sheet, a debtor balance in the partners' loan account, in "Other accounts receivable", of €1,350,000.00, a final "Cash" balance of zero and debtor balances of "Current account deposits" of € 155,773.40 and "Other bank deposits" of € 434,000.00;

• In 2014, were declared in the company's balance sheet, a debtor balance in the partners' loan account, in "Shareholders/partners – Non-Current Assets" and "Shareholders/partners – Current Assets", of € 1,053,000.00 and € 557,500.00, respectively, a final "Cash" balance of zero and debtor balances of "Current account deposits" of € 91,822.49 and "Other bank deposits" of € 435,000.00;

• In 2015, were declared in the company's balance sheet, a debtor balance in the partners' loan account, in "Shareholders/partners – Non-Current Assets" and "Shareholders/partners – Current Assets", of € 1,053,000.00 and € 888,022.22, respectively, a final "Cash" balance of zero and debtor balances of "Current account deposits" of € 122,556.17 and "Other bank deposits" of € 435,000.00;

• The SP practiced a profit retention policy (never distributed profits), accumulating them in "Other Reserves" and "Carried-forward Results" throughout the various years of existence of the company;

• In the years under analysis, personnel expenses declared relate to the costs incurred with the salary of partner-manager G..., as well as expenses relating to training/conferences/trips abroad.

3) From the accounting elements collected in the accounting of the SP for the years under analysis we verified the following:

• The company's liquidity was no longer assured by high values in the "12 Current Account Deposits" account [...] which had no connection to the company's bank accounts, performing for this purpose various accounting entries throughout the year [...]

• That is, the accounting for the years under analysis altered the accounting procedures followed in previous years (accumulation of debtor balances in "bank deposits" with a growing trend), directly transferring the amounts of € 1,345,000.00 in 2013, € 265,500.00 in 2014 and € 742,800.00 in 2015, from "Current Account Deposits" to the partners' assets, as a "debt" of the partners to the company, only documented by "loan contracts" and "loan receipts."

4) Indeed, the accounting verification performed to the years under analysis confirms that:

• There is no documentary evidence in the accounting for the years 2013, 2014 and 2015 of the financial flows underlying the alleged actual deliveries of company liquidity to the partners stated in the loan contracts and loan receipts signed. From the analysis of the company's bank statements for these years, it is verified that only resources strictly necessary to ensure compliance with the company's obligations were deposited;

• In the years analyzed, the company's revenues were not processed in their entirety into the company's bank accounts, but rather into the partners' personal accounts, as the managing partner recognized in the Statement of Declarations of 3 July 2017 (ANNEX 4), where he acknowledged that checks issued by clients, always in his personal name, "were not deposited in the company's accounts due to a matter of logistics and lack of legal knowledge", being transferred occasionally if liquidity was needed in the company's accounts;

• Only financial inflows into the company's current account bank accounts were identified in these years relating to bank transfers from the managing partner's personal accounts, to ensure automatic debits of the accounts or other company responsibilities to third parties, inflows of entry that fall far short of the value of services accounted for in each year and payments made by the main client to Dr. F... in 2014 and 2015 which we confirmed;

• It is worth noting that these bank inflows of financial resources, originating from the managing partner's personal accounts, are not restitutions of deliveries made by the company to the partner, but rather liquidity provisions that the company needed to comply with its responsibilities, which could be returned to the managing partner as soon as the company generated liquidity.

5) [Analysis of loan contract defects...]

• We must note that the alleged "loan contracts", concluded between related parties, should have been concluded by public deed, as provided by article 1143 of the Civil Code, thus attacking their validity. Thus, having examined the alleged loan contracts, and considering their value, not having been subjected to public deed, it is concluded that these are contracts in which the lack of legal form implies the nullity of the legal transaction, as provided by article 220 of the Civil Code;

Legal Classification of Income Attributed to Partners in 2013, 2014 and 2015

What the deliveries of financial resources made by the company to the partners objectively reflect, originating from "Current Account Deposits", is the placing at the disposal of the partners of income, constituting a patrimonial increase of their income. [...] it can only be concluded that we are faced with capital income, in the form of profit distribution or advance on account of profits.

• Having demonstrated the non-existence of loans from the company to the partners, in the absence of another valid basis to rebut the presumption provided for in article 6, no. 4 of the IRS Code (as resulting from the provision of work or the exercise of corporate offices), the dates of entry expressed by the accounting must prevail;

• [Further analysis...]

It is concluded that the SP sought to have funds leave the company in favor of the partners, the company's results, avoiding their taxation, both at the company level and at the partners' level.

The distribution of profits and advance on account of profits occurred at the moment when, in an objective manner, their placing at the disposal of the partners was recognized through accounting, which occurred through the crediting of "current account deposits" by debiting from the partners' accounts.

Following what was stated above, it is concluded that the income thus distributed to the partners constitutes capital income (category E) by virtue of no. 1 of article 5 of the IRC Code, whose classification is specified in paragraph h) of no. 2 of the same article 5 of the IRS Code. According to this normative, are subject to IRS, by classification in category E, "The profits of entities subject to IRC made available to their respective associates or holders, including advances on account of profits...".

Thus, based on paragraph h) of no. 2 of article 5 of the IRS Code, the making available by the company to the partners of amounts that the company had recorded in "current account deposits" and which totaled € 1,345,000.00 in 2013, € 265,500.00 in 2014 and € 742,800.00 in 2015, is to be considered as having occurred as profit distribution or advance on account of profits.

Having collected the accounting evidence, the legal basis for the presumption set forth in article 6, no. 4 of the IRS Code was fulfilled, according to which "Entries in any current accounts of partners, recorded in commercial or civil companies in commercial form, when not resulting from loans, provision of work or exercise of corporate offices, are presumed to be made as profit or advance on profits" (wording in effect as of the date of the tax facts – 2013 and 2014, prior to the republication of the IRS Code by Law no. 82-E/2014, of 31 December). In this sense, the amounts of € 1,345,000.00 in 2013, € 265,500.00 in 2014 and € 742,800.00 in 2015, constitute the amounts of income recorded in the accounting of the SP, for each year, in partners' current accounts, which were based on transfers of values from "current account deposits" accounts, assuming the nature of profit distribution or advances on account of profits classifiable as category E income (article 5, no. 2, paragraph h) of the IRS Code).

The distribution of profits and advances on account of profits are subject to withholding at source as a final amount, at the liberatory rate of 28%, for IRS purposes, as provided by article 71, no. 1, paragraph c) of the IRS Code (current article 71, no. 1, paragraph a) of the same legal enactment), which according to no. 3 of article 98 of the same enactment should be delivered into the State coffers by the 20th day of the month following that to which it relates.

Note that the inspected company did not proceed to withhold the IRS owed, to which it was obliged under article 101, no. 2, paragraph a) of the IRS Code.

Timing of Taxation and Apportionment of Capital Income to be Taxed by Period

Summarizing, the amounts of total deliveries by the company to the partners, in each year under analysis, which were considered by the SP as loans to the partners, a qualification that should be disregarded, as proven above, as they constitute a distribution of profits or advance on account of profits (tax fact), classifiable under article 5, no. 2, paragraph h) and article 6, no. 4, both of the IRS Code, are as follows:

• Year 2013: € 1,345,000.00
• Year 2014: € 265,500.00
• Year 2015: € 742,800.00

The facts described translate the existence of values recorded in "current account deposits" accounts that undoubtedly were delivered to the partners, with the transfer of ownership thereof being consummated for the benefit of the partners, who thus saw their assets increase.

As regards the amounts subject to taxation, the value was fixed corresponding to the amounts made available to the partners, as ascertained from the company's accounting accounts, as if these were loans to partners.

Article 7, no. 1 and no. 3, paragraph c), no. 2 of the IRS Code establish that the moment from which capital income (category E) becomes subject to taxation corresponds to the date of making available.

Thus, based on the facts already presented and with the tax fact proven, any eventual doubts as to the timing of delivery of capital income to the partners are dispelled having regard to the fact that the information contained in the financial statements declared by the SP throughout the years [...] constitutes information approved and certified by the partners annually, in the General Assembly and communicated to various entities.

Thus, considering all the evidence previously exposed, it is considered that the distribution of profits or advance on account of profits occurred at the moment when their making available to the partners was recognized through accounting, recording the actual deliveries of balances from "current account deposits" accounts in specific partner loan accounts. That is, as regards the timing of taxation, the month in which the deliveries of values occurred was fixed – article 7 of the IRS Code, defining that moment as when the tax becomes due.

The following table presents the apportionment of capital income – profits and advance on account of profits – distributed to the partners, by period (month), subject to a withholding rate at source of 28%, without having been performed by the SP, calculating the respective amount of withholding in default.

Table 10

From the above table, we conclude that the amounts of withholding in default calculated in each year under analysis, by having been made available to the partners, as capital income, amount to € 376,600.00 in 2013, € 74,340.00 in 2014 and € 207,984.00 in 2015.

Reference to Jurisprudence Related to the Facts at Issue

[References to relevant case law...]

OTHER RELEVANT ELEMENTS

As a result of the corrections now proposed, together with the assessment of additional tax to be delivered to the State, compensatory interest will also be assessed which proves to be due, under the provisions of articles 102 of the IRC Code, 91 of the IRS Code and 35 of the LGT, as per the demonstration note of calculation, whose content will be timely notified to the Taxpayer.

RIGHT OF HEARING

[Analysis of hearing responses...]

On the allegations presented by the taxpayer and which constitute the exercise of Prior Hearing Rights, it is concluded that they do not faithfully reproduce the conclusions of Tax Inspection. In this sense, following the arguments of the SP previously summarized, an attempt will be made to clarify the discordant points.

Points 1, 2 and 3)

The Tax Inspection services, in the draft report of corrections prepared, never invoked that the accounting of the SP evidences a distribution of profits.

From the accounting of the SP for the years 2013, 2014 and 2015 it follows:

• The accounting in partner current accounts of alleged loans to partners, mobilizing for this purpose values from the company's current account deposits, supported by loan contracts and loan receipts, as illustrated in Table 7 of the draft report and this final report;

• The contracts and loan receipts were signed by the beneficiary partners throughout the years 2013, 2014 and 2015, documents that purport to evidence a financial flow that would have been transferred on those dates to the sphere of each partner.

When the SP refers in its petition for Prior Hearing that "(…) the aforementioned amounts of €1,345,000.00, € 265,500.00 and € 742,800.00, which were loaned to the partners over several years (…)", it is important to emphasize that it failed to demonstrate and prove this assertion, since it never presented documents confirming these financial flows. Without this proof, what remains is the reality expressed by the accounting for the years 2013, 2014 and 2015, which shows that at various times values were entered in partner current accounts, which the AT demonstrated exhaustively do not result from loans, provision of work or exercise of corporate offices.

Accounting constitutes a crucial and legally mandatory element in the corporate sphere, determinant for ascertaining the patrimonial and tax situation of the company, as provided by articles 3 and 17 of the IRC Code, and there is also a legal presumption of good faith, both regarding data entered in the accounting, executed and approved by management, and in tax declarations filed by the SP throughout the years, as provided by article 75, no. 1 of the LGT. In this manner, the AT relied on all accounting documents for the years 2013, 2014 and 2015 and on extra-accounting elements to conduct its analysis and respective conclusions, having as objective the discovery of material truth, in compliance with the inquisitorial principle provided for in article 58 of the LGT and in its relevance as a constitutional principle of taxation.

Points 4, 5, 6 and 7)

Within compliance with the duty of reasoning the facts supporting the proposed corrections, the AT enumerated and explained, at various points of the report, various weaknesses associated with the loan contracts and receipts concluded between the company and the beneficiary partners throughout the years 2013, 2014 and 2015, and whose analysis cannot be done in isolation, as the SP chose to do in its petition for exercise of Prior Hearing.

On the allegations of the SP presented at these points, here are some considerations:

• When the managing partner justifies that client checks were not fully deposited in the company's bank account "…due to a matter of logistics and lack of legal knowledge that was required…", it is important to recall that, taking into account the provision of article 6 of the Civil Code, "Ignorance or misinterpretation of the law does not justify failure to comply with it nor exempts persons from the sanctions established therein";

• In the petition under analysis, the SP came to admit that "…it has not always adopted the correct procedure regarding the deposit in its bank accounts of financial resources forming part of its assets…";

• Regarding the loans executed, without the SP benefiting from interest (which would allow it to compensate for the unavailability of the money and the associated risk) and without the provision of any real or personal guarantee, it is important to underline the following:

  • The corporate purpose of the company under analysis does not include the granting of credit to third parties;
  • The purpose of a commercial company is lucrative intent, the intention to obtain profits so that they may be attributed to partners;
  • By not benefiting from interest in the case of granting loans to partners, the SP would be disregarding its own interest by not setting interest rates and by not requiring that any guarantee be provided to it. By practicing these acts, the same are not convenient to the company, nor to the pursuit of its lucrative purpose, in addition to being unrelated to its corporate purpose.

• As regards Stamp Tax, the SP acknowledged that this tax was not paid, a legal obligation resulting from the Stamp Tax Code, applicable both by the execution of loan contracts and by the use of credit granted resulting from the contracts concluded.

Point 8)

Regarding what is alleged by the SP at this point, it is once again emphasized that the granting of loans to partners on a gratuitous basis constitutes an act that deviates from the company's corporate purpose and, by the characteristics of the same, in which the company's own interest was not safeguarded, deviating from the lucrative purpose attached to a commercial company, as provided in the Commercial Companies Code.

This is an act that was only deliberated by the company in Minutes no. 34 of 31/03/2014, which should have been expected to occur previously, since what is at issue concerns information about the financial management and patrimonial situation of the company.

Point 9)

In the SP's petition reference is made to non-compliance with formal requirements in the case of contracts concluded for amounts exceeding € 25,000.00, where only public deed would meet this formal requirement in light of what is established in article 1143 of the Civil Code. However, it is erroneous that the SP concluded that such formal non-compliance alone would have been sufficient for the AT to have stated that we would not be faced with "true loan contracts".

Indeed, the AT assessed all documents supporting the loans executed between the company and the beneficiary partners throughout the years 2013, 2014 and 2015 (contracts and loan receipts), in light of the provision of article 1143 of the Civil Code.

From the Tax Inspection report it was demonstrated that formal compliance provided for in article 1143 of the Civil Code, although mandatory, is not sufficient to validate the loan contracts and receipts presented. See the case of loans evidenced by loan receipts, of value less than € 25,000.00, or the loan contracts executed on 22/12/2015, in the amount of € 300,000.00 each, which although formally complying with the requirements of article 1143 of the Civil Code, were not recorded in accounting.

For disregarding the loan contracts and receipts executed in 2013, 2014 and 2015, within the burden of proof incumbent upon it, the AT proved that such documentation intended only to appear to evidence the existence of loans to partners, enumerating again the principal facts considered that support this conclusion, which should not be taken in isolation:

• The impossibility of confirming in the company's bank statements for those years the financial outflows in favor of the beneficiary partners of the loans, alleged in the loan contracts and receipts executed throughout these years;

• Formal validity impaired in loan contracts and receipts of value exceeding € 25,000.00 in light of article 1143 of the Civil Code (only public deed would meet this formal requirement);

• Non-establishment of interest rates and provision of personal and real guarantee, not safeguarding the company's own interest, deviating from the lucrative purpose of the company and its corporate purpose;

• Non-payment of Stamp Tax, as results from the respective Code;

• The recognition of the managing partner when he stated that "The loans were made partially to justify the exit of revenues from the company that had previously been deposited in the partners' personal bank accounts" (ANNEX 4), or in additional clarifications provided that the accounting entries supporting loan receipts served to "reconcile the B... bank account" (ANNEX 13).

From the argument presented, it is concluded that the interpretation contained in the Prior Hearing petition exercised by the SP does not faithfully reproduce the conclusions of Tax Inspection.

On the other hand, in the argument presented, the SP did not rebut, as was incumbent upon it, the legal presumption provided for in article 6, no. 4 of the IRS Code, namely to demonstrate that the entries made in partners' accounts actually result from loans, provision of work or exercise of corporate offices to justify non-compliance with the tax obligation to withhold IRS at source (articles 71, no. 1 paragraph c) and 98, no. 3 of the IRS Code).

The SP, to justify the non-withholding of IRS at source, sought to demonstrate that the accounting entries recorded in the years 2013, 2014 and 2015 and the respective deliveries to the partners occurred as a consequence of loan contracts executed between the company and the partners.

However, with it proven that the deliveries to the partners did not occur as a consequence of loans, nor of any other valid basis to consider the presumption provided for in article 6, no. 4 of the IRS Code as rebutted, this legal presumption must prevail combined with the fact that the accounting evidences that throughout the years 2013, 2014 and 2015 entries were made in partner current accounts, totaling respectively €1,345,000.00, € 265,500.00 and € 742,800.00, respectively.

The AT throughout the Tax Inspection report exhaustively described and proved the basis of the legal presumption set forth in article 6, no. 4 of the IRS Code and the grounds for disregarding the loans from the company to the partners, making the real nature prevail over the documentary form that involved this transfer. [...]" – cf. RIT.

F. Upon that Report there fell, on 29 November 2017, a concordant Order of the Head of Division, by subdelegation of the Deputy Director of Finance of the Finance Directorate of Lisbon – cf. RIT.

G. The Claimant was notified of the following additional assessments for withholdings at source of IRS and compensatory interest:

a) Year 2014 – no. 2017..., of 13 December 2017 (withholdings at source), in the amount of € 74,340.00, and respective assessments of compensatory interest nos. 2017...; 2017...; 2017...; 2017...; 2017... and 2017..., in the joint amount of € 9,923.86, totaling € 84,263.86 payable, with payment deadline set for 22 January 2018;

b) Year 2015 – no. 2017..., of 13 December 2017 (withholdings at source), in the amount of € 207,984.00, and respective assessment of compensatory interest no. 2017..., in the amount of € 17,094.57, totaling € 225,078.57 payable, with payment deadline set for 22 January 2018,

– cf. documents 1 and 2 attached with the ppa.

H. The Claimant proceeded to payment of the amount of € 84,263.86, on 16 January 2018, and of € 225,078.57, on 22 January 2018 – cf. documents 4 and 5 attached with the ppa.

I. In disagreement with the assessments of withholdings at source of IRS and compensatory interest identified above, the Claimant submitted to CAAD, on 23 April 2018, the request for constitution of the Collective Arbitral Tribunal that gave rise to the present proceedings.

MOTIVATION AND FACTS NOT PROVEN

The pertinent facts for judgment of the case were selected and delimited based on their legal relevance, in light of the plausible solutions of legal questions, under the terms of the combined application of articles 123, no. 2, of the CPPT, 596, no. 1 and 607, no. 3 of the Code of Civil Procedure ("CPC"), applicable by virtue of article 29, no. 1, paragraphs a) and e) of the RJAT.

With regard to proven facts, the conviction of the arbitrators was based essentially on critical analysis of the documentary evidence acquired procedurally and the positions taken by the parties.

Not proven is what is alleged in article 19 of the ppa, according to which the amounts of € 265,500.00 and € 742,800.00 were loaned to the partners.

With relevance for the decision there are no other alleged facts that should be considered as not proven.

ON THE LAW

2.1. Delimitation of the Object

The fundamental questions to be decided concern the following defects, of both formal and substantive order:

• Lack of reasoning imputed to the assessment acts, for allegedly not having been demonstrated the reason and the legal provision on the basis of which the tax (IRS) was required from the Claimant, instead of from the beneficiaries of the income (the partners);

• Error in the grounds in the application of the presumption provided for in article 6, no. 4 of the IRS Code, by failure to verify the factual basis provided for in the rule, since, in the Claimant's thesis, the entries made in the accounting in partner current accounts were made on the basis of loans to partners and not as profit distribution or advance on account thereof;

• Error in the "dissimulated" application of the general anti-abuse rule, without the procedure provided for in article 63 of the CPPT having been employed and without the respective legal requirements being verified;

• Error in the grounds in the imputation of tax liability to the Claimant, for even if the presumption of the cited article 6, no. 4 of the IRS Code were applicable, or the recharacterization of income under the general anti-abuse rule contained in article 38, no. 2 of the LGT, this would only legitimize an additional IRS assessment to individual taxpayers and not a fiction of an ancillary obligation of a third party; and, finally,

• Error in the factual grounds, due to incorrect quantification of income.

Finally, it is necessary to assess the constitutive grounds of the obligation to pay indemnificatory interest.

2.2. Regarding the Formal Defect of Lack of Reasoning

The Claimant understands that the assessments of withholdings at source which are the object of the present arbitral action are tainted with the formal defect of lack of reasoning, by virtue of the AT not having demonstrated the reason why the tax should be borne by the Claimant, nor the legal basis for imputation of responsibility for its payment to the Claimant, instead of to the partners.

For this purpose, it invokes the constitutional principle enshrined in article 268, no. 3 of the CRP, implemented by the provision of article 77 of the LGT which determines that the decision of the tax procedure is always reasoned and, although it may be done summarily, must "always contain the applicable legal provisions, the qualification and quantification of the tax facts and the operations for determining the taxable amount and the tax" (nos. 1 and 2). Likewise, article 62 of the RCPIT establishes that the inspection report must contain "the description of the tax-relevant facts that alter the values declared, or to be declared, subject to taxation, with proper mention and attachment of the means of proof, as well as the legal reasoning supporting the corrections made" (no. 3, paragraph i)).

The Claimant further states that lack of reasoning is equivalent to the adoption of grounds which, by obscurity, contradiction or insufficiency, do not concretely clarify the reasoning of the act (it indicates, certainly by lapsus, article 125, no. 2 of the CPA, since this regime has applied since the entry into force of the new CPA in April 2015, article 153, no. 2 of that Code).

In this context, it is worth noting that the duty of reasoning serves the primary function of enabling the recipient of the act to become aware of the reasons underlying the administrative decision, permitting control of its validity, through analysis of its respective grounds, and access to contentious guarantee.

Following the jurisprudence of the Supreme Administrative Court ("STA"), reasoning is a relative concept that varies according to the legal type of act and aims to respond to the taxpayer's needs for clarification, allowing him to know the factual and legal reasons that determined its enactment and why it was decided in one sense and not another (cf. Decision of the STA, case no. 01114/05, of 2 February 2006).

Reasoning may be succinct and by reference, provided that the function of making known the cognitive and evaluative path of the act is assured. An act is sufficiently reasoned whenever a normal recipient, faced with the same, may become aware of the reasons supporting the decision set forth therein (cf. Decision of the STA, case no. 42180, of 20 November 2002). And even that an act is duly reasoned which, directly or by reference, contains the contextual indication of the factual and legal reasons that allow its normal recipient to grasp the decision-making reasoning, the causes and the sense of the decision (cf. Decision of the STA, case no. 46796, of 14 March 2001).

Having reviewed the arbitral files, it is found that the reasons leading the AT to its decision are perceptible and that there is sufficient clarity regarding the motivations underlying the challenged acts. In particular, the RIT, incorporated into the administrative file, provides a detailed and comprehensive analysis of the facts, the legal grounds, and the calculations that led to the proposed corrections. The report clearly demonstrates:

(i) The analysis of the accounting records and their inconsistencies with the bank statements;

(ii) The examination of the loan contracts and receipts, identifying their formal and substantive defects;

(iii) The application of the presumption set forth in article 6, no. 4 of the IRS Code, with explicit reference to the factual basis supporting its application;

(iv) The calculation methodology used to determine the amounts of withholdings at source owed.

The Tribunal understands that the AT provided adequate reasoning for its decisions, permitting the Claimant to understand the grounds for the challenge and to exercise the corresponding right to defense. Accordingly, the formal defect of lack of reasoning alleged by the Claimant is not upheld.

2.3. Regarding Error in the Application of the Presumption of Article 6, No. 4 of the IRS Code

The Claimant argues that the AT erred in applying the presumption provided for in article 6, no. 4 of the IRS Code, contending that the factual basis of the presumption – namely, that the entries in partner current accounts were not supported by loans – was not established.

Article 6, no. 4 of the IRS Code provides: "Entries in any current accounts of partners, recorded in commercial or civil companies in commercial form, when not resulting from loans, provision of work or exercise of corporate offices, are presumed to be made as profit or advance on profits" (in the version applicable to the facts).

The Claimant's core argument is that the amounts entered in the partner accounts were indeed supported by genuine loan contracts (mútuos), properly documented and formalized. It contends that the existence of such contracts, even if they present certain formal deficiencies or lack of compliance with certain legal requirements, does not permit the conclusion that they are non-existent or should be disregarded for tax purposes.

However, the evidence gathered during the inspection and presented to this Tribunal conclusively demonstrates the following:

First, there is no correspondence between the alleged loan transactions and the actual financial flows reflected in the company's bank statements. The detailed analysis of bank extracts for 2013, 2014 and 2015 shows no financial outflows to the partners in the amounts and on the dates claimed in the loan contracts and receipts. This is a fundamental and decisive factor.

Second, the loan contracts and receipts contain multiple defects:

(a) Formal deficiency: Contracts exceeding € 25,000 were not executed by public deed, as required by article 1143 of the Civil Code, thus violating a mandatory formal requirement;

(b) Lack of interest and guarantees: The loans bore no interest and involved no personal or real guarantees, which is contrary to the normal characteristics of true credit operations and the company's interest in protecting its assets;

(c) Non-payment of Stamp Tax: The loans were not subject to Stamp Tax, in violation of the applicable legal provisions;

(d) Temporal inconsistency: The deliberation authorizing the loans occurred on 31 March 2014, long after the alleged loan transactions were recorded (in 2013, and before this date in 2014).

Third, the managing partner himself admitted, in his statement to the inspectors, that "the loans were made partially to justify the exit of revenues from the company that had previously been deposited in the partners' personal bank accounts." This admission is revealing and contradicts the assertion that these were genuine loans. The partner further stated that the accounting entries were made to "reconcile the bank account," confirming that they were merely accounting adjustments rather than reflections of actual financial transactions.

Fourth, the company's accounting records contain numerous irregularities:

(a) Account reconciliation failures: The company failed to properly reconcile its accounting entries with bank statements;

(b) Suspicious account creations: In 2015, the company created account "125 Bancos por Reconciliar" (Banks to Reconcile) to record financial movements without banking support;

(c) Absence of supporting documentation: Despite requests by the tax authorities, the company could not provide documentary evidence (bank transfer confirmations, withdrawal receipts, etc.) of the actual delivery of the alleged loan amounts to the partners;

(d) Accounting entries without banking support: Many of the accounting entries purporting to record loan transactions were expressly stated by the company's accountant to be "mere accounting regularizations" without corresponding bank movements.

Fifth, the structure and evolution of the partner accounts is suspicious. Prior to 2013, these accounts showed zero balances. Beginning in 2013 and continuing through 2015, substantial amounts (€1,345,000.00, €265,500.00, and €742,800.00 respectively) suddenly appeared as "loans." No coherent explanation has been provided for this abrupt change, which coincides with the company's decision to alter its accounting procedures for managing financial resources.

Given this preponderance of evidence, the Tribunal finds that the AT correctly applied the presumption of article 6, no. 4 of the IRS Code. The Claimant has not rebutted the presumption by proving that the entries were genuinely supported by loan contracts with the essential characteristics of true loans (actual delivery of funds, proper formalization, assumption of risk through interest or guarantees, etc.). Instead, the evidence points overwhelmingly to the conclusion that these entries represent profit distributions or advances on account of profits, disguised through false loan documentation.

Accordingly, the Tribunal rejects the Claimant's assertion of error in the application of the presumption.

2.4. Regarding the Alleged Dissimulated Application of the General Anti-Abuse Rule

The Claimant alleges that the AT applied, in a "concealed" or "dissimulated" manner, the general anti-abuse rule provided for in article 38, no. 2 of the LGT, without following the mandatory procedure established in article 63 of the CPPT.

Article 38, no. 2 of the LGT states: "The tax authorities may disregard the legal form of acts or contracts if they were essentially aimed at tax avoidance, in a way that is incompatible with the purpose of the applicable tax laws."

Article 63 of the CPPT establishes a specific procedure for the application of the general anti-abuse rule, including requirements for reasoning, prior hearing of the taxpayer, and authorization from the highest-ranking official.

The Respondent (AT) maintains that it did not apply the general anti-abuse rule, but rather applied the specific presumption of article 6, no. 4 of the IRS Code, which is a distinct legal mechanism.

Upon careful examination of the Record of Inspection and the evidence presented, this Tribunal agrees with the AT's position. The AT's reasoning does not rely on the general anti-abuse rule of article 38, no. 2 of the LGT. Rather, it applies the specific and narrower presumption of article 6, no. 4 of the IRS Code.

The distinction is important. Article 6, no. 4 of the IRS Code is a specific statutory presumption addressing a defined factual situation: entries in partner accounts that do not result from loans, work provision, or exercise of corporate offices are presumed to constitute profit distributions. This presumption is self-executing – it does not require the formal procedure of article 63 of the CPPT. It is a normal rule of tax classification, not an anti-abuse measure requiring special procedural safeguards.

The AT correctly identified the factual prerequisites for the presumption (entries in partner accounts not supported by genuine loans), established that these prerequisites were met, and applied the resulting legal consequence (classification as profit distributions subject to IRS withholding).

The Claimant's criticism that the AT applied the anti-abuse rule "in disguise" is unfounded. The AT applied the appropriate specific rule provided by the legislature for precisely this factual situation. No additional procedural requirements were necessary.

Therefore, this Tribunal finds no merit in the Claimant's allegation regarding the dissimulated application of the anti-abuse rule.

2.5. Regarding Error in the Imputation of Tax Liability to the Claimant

The Claimant argues that even if the presumption of article 6, no. 4 of the IRS Code were applicable, or even if the anti-abuse rule applied, the tax obligation should fall on the partners (as individuals subject to IRS) and not on the company (which, as a legal entity, is subject to IRC).

The Claimant contends that taxing the company for income ultimately benefiting the individual partners constitutes an improper allocation of tax responsibility.

This argument, while superficially appealing, misunderstands the structure of Portuguese tax law regarding profit distributions.

Under article 71, no. 1, paragraph c) (now paragraph a)) of the IRS Code, profit distributions are subject to a final withholding tax at the rate of 28%, to be withheld at source. Article 98, no. 3 of the IRS Code specifies that this withholding must be made by the distributing entity (the company) and remitted to the state treasury by the 20th of the following month.

Article 101, no. 2, paragraph a) of the IRS Code imposes on the company the obligation to withhold IRS at source from profit distributions to partners.

Articles 20 and 34 of the LGT and article 21 of the IRS Code establish that the tax substitute (the company) bears primary responsibility for the withholding and payment of tax, with the substituted party (the partner) bearing only subsidiary responsibility.

Thus, the Portuguese tax system places the duty of withholding on the company, not on the individual partners. The company acts as a "tax substitute" or "withholding agent" (substituto tributário). This is a standard feature of most tax systems and serves important administrative purposes: it concentrates the obligation to withhold and remit taxes in an entity with institutional capacity and accounting records, ensuring more efficient tax collection.

The allocation of responsibility to the company does not constitute an improper "taxation of a third party." Rather, it reflects the legal structure established by the legislature: the company is the proper subject of the withholding obligation, and the partners benefit from the income while bearing the ultimate tax burden through the withheld amount.

This Tribunal finds the Claimant's argument on this point to be without merit. The AT correctly imposed the withholding obligation on the company, in accordance with the applicable legal framework.

2.6. Regarding Error in the Factual Grounds and Quantification of Income

The Claimant alleges that the AT erred in determining the amounts subject to taxation, claiming that the income was not properly quantified.

The AT calculated the amounts as follows:

• 2013: €1,345,000.00
• 2014: €265,500.00
• 2015: €742,800.00

These amounts correspond precisely to the values that the company itself recorded in its accounting as "loans" to partners – specifically, the transfers from the "Depósitos à Ordem" (current account deposits) accounts to the partner loan accounts.

The Claimant does not seriously dispute these figures. Rather, it argues that these were genuine loans and therefore should not be classified as profit distributions at all. But this argument has already been addressed and rejected above, where this Tribunal found that the alleged loans were not supported by genuine transactions.

Having established that these amounts constitute profit distributions (or advances on account thereof), the quantification used by the AT – matching the amounts recorded by the company itself in its accounting – is the correct and only logical basis for calculating the tax.

No error in quantification is found.

2.7. Regarding Compensatory Interest

Article 35 of the LGT provides for the assessment of compensatory interest (juros compensatórios) in cases where there is a delay in the payment of taxes.

The Claimant argues that compensatory interest should not have been assessed because there was no delay – the company was not aware that it had an obligation to withhold.

However, this argument is without legal foundation. Article 35 of the LGT imposes compensatory interest whenever a tax obligation is not fulfilled on the due date, regardless of whether the failure was due to negligence, error, or lack of awareness. The provision does not exempt cases of "honest mistake" or "good faith."

Moreover, the company clearly bore responsibility for being aware of its obligations under the tax code. The obligation to withhold and remit IRS on profit distributions is not an obscure or technical requirement – it is a fundamental principle of the tax system, clearly stated in articles 71, 98, and 101 of the IRS Code.

The compensatory interest was correctly assessed under article 35 of the LGT.

2.8. Regarding Indemnificatory Interest

The Claimant requests indemnificatory interest (juros indemnizatórios) under article 43 of the LGT, arguing that the AT committed an error that caused the company to overpay taxes.

Article 43, no. 1 of the LGT provides that indemnificatory interest is due when there is an error imputable to the tax services that results in overpayment or delay in restitution.

In the present case, there has been no error by the tax services. The AT correctly applied the law to the facts established by its investigation. No overpayment resulted from an error of the tax authorities.

The Claimant's disagreement with the tax treatment does not constitute an "error" by the tax services within the meaning of article 43 of the LGT. The AT's interpretation and application of the law, though contested, was reasonable and well-reasoned.

Therefore, the Claimant is not entitled to indemnificatory interest.

2.9. Summary and Conclusion on Questions of Law

The Tribunal has examined each of the formal and substantive defects alleged by the Claimant and finds merit in none of them:

1. Lack of Reasoning: The AT provided detailed, adequate reasoning for its assessments, clearly explaining the factual and legal bases for its conclusions.

2. Error in Applying Article 6, no. 4 of the IRS Code: The factual prerequisites for the presumption were clearly established, and the presumption was correctly applied.

3. Dissimulated Application of Anti-Abuse Rule: No anti-abuse rule was applied; rather, the specific presumption of article 6, no. 4 of the IRS Code was properly invoked.

4. Improper Imputation to the Company: The allocation of the withholding duty to the company is mandated by law and is not improper.

5. Incorrect Quantification: The amounts were correctly quantified based on the company's own accounting records.

6. Compensatory and Indemnificatory Interest: Both were correctly assessed under applicable law.

Accordingly, the Tribunal finds that the AT's assessments were legally sound and should be upheld.

DECISION

For all the foregoing reasons, this Arbitral Tribunal:

DECIDES:

1. To reject the Claimant's petition for declaration of illegality and annulment of the assessments of withholdings at source of Personal Income Tax and compensatory interest for the years 2014 and 2015;

2. To confirm and uphold the assessment acts challenged:

   • Assessment no. 2017... of 13 December 2017 (withholdings at source for 2014), in the amount of €74,340.00, and the related assessments of compensatory interest, totaling €9,923.86;
   • Assessment no. 2017... of 13 December 2017 (withholdings at source for 2015), in the amount of €207,984.00, and the related assessment of compensatory interest, in the amount of €17,094.57;

3. To dismiss the request for restitution of amounts paid and for indemnificatory interest;

4. To confirm that the Tax and Customs Authority correctly applied the law to the facts established through its inspection, and that the assessment acts are legally valid and enforceable.

The Tax and Customs Authority's application of the presumption provided for in article 6, no. 4 of the IRS Code was correct and justified by the clear factual circumstances, including the absence of genuine loan documentation, the lack of correspondence between alleged transactions and actual financial flows, and the admissions of the company's management regarding the true nature of the entries.

This decision is final and not subject to further appeal within this arbitral system.

Rendered and signed this [date] by the undersigned arbitrators:

(Signed)

Dr. Alexandra Coelho Martins
Presiding Arbitrator

(Signed)

Prof. Dr. Clotilde Celorico Palma
Panel Arbitrator

(Signed)

Dr. Miguel Luís Cortês Pinto de Melo
Panel Arbitrator